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7 tax record keeping FAQ

Paper overload

Tax season is over for another year. Now all that's left cleaning up after the filing crunch.

I know many of y'all are tempted to simply toss everything in the trash. Don't.

You don't have to the tax version of television's Hoarders, but there are some tax-related documents you need to hang onto, at least for a while.

These 7 frequently asked questions and answers can help you get a better handle on your tax record keeping.

1. Why should I keep records?
Well-organized records make it easier to prepare your tax return. Documentation, both the amount and in good order, also can help you provide answers if the Internal Revenue Service has any questions about your return.

2. What kinds of records should I keep?
The quick answer is everything, but again, we're trying not to be too obsessive-compulsive. So let's break it down into key material in specific categories.

It is an income tax, so to verify your earnings you need to keep copies of W-2 forms, all types of 1099 forms (MISC, DIV, INT, G and R), gambling and prize winnings not reported on a 1099, bank statements, brokerage statements and K-1 forms.

If you're getting retirement money, hang onto the official statements detailing retirement distributions. This will help you and the IRS know how much, if any, of a cut due the federal government. In addition, Form 5498, Roth and traditional IRA contributions, and Form 8606, nondeductible IRA contributions, can help you differentiate taxable and nontaxable retirement money.

When it comes to expenses and deductions, hang onto receipts, sales slips, invoices, canceled checks, credit card statements, gambling losses and written statements from charities.

Your home is likely your biggest investment, so keep all your residential records, not just those related to your taxes. These include closing statements, purchase and sales invoices, proof of payment, insurance records, property tax assessments and payments, receipts and documents related to disaster losses and receipts for improvement costs. These could affect not only your annual filings, but also any potential tax bill when you sell.

The same is true for investment documentation. Hold your transaction data, including individual purchase or sale receipts as well as annual statements.

In some cases, photos also are helpful, such as when you claim property losses after going through a disaster.

And, of course, you'll want to keep a copy of each year's tax return that you file. This includes not just the 1040 itself, but also any associated schedules that sent to the IRS that year. You'll be glad you have them at your fingertips when you apply for a loan or other financial assistance, such as college money.

3. How long should I keep records?
This is the question that flummoxes pack rats and well-adjusted taxpayers alike. As is the case with most tax questions, the answer is "it depends."

Generally, you must keep your tax records as long as they may be needed to prove the income or deductions you entered on a tax return. But the length of time you should keep certain tax documents is based on the action, expense or event the documents record.

The IRS also has a statute of limitations framework it follows.

For basic annual return filing, the tax man has three years to review your return.

When IRS examiners believe you've shorted your income entry on a return by 25 percent or more, they can come asking questions up to six years later.

The period of limitations goes to seven years if you file a claim for a loss from worthless securities.

When it comes to real property, keep relevant records until the period of limitations expires for the year in which you dispose of the property. These records help figure your basis for computing gain or loss when you sell or otherwise dispose of the property.

Then there's fraud.

When Uncle Sam suspects you've intentionally tried to escape your rightful tax liability, his tax collecting agents get a lot of leeway. A whole lot. Like forever.

There is no statute of limitations for folks who commit tax fraud. IRS agents can investigate you at any time it suspects you entered illegal information on your return. So if you tend to be a bit aggressive with your Form 1040 entries, keep your records for those claims in perpetuity. Just in case.

There's also no limitation on the time the IRS can ask you questions if you don't file a tax return. That's why you should keep documentation of why you didn't file a return in a particular year or two or more.

Don't freak out. It's not as difficult as trying to prove a negative. Say, for example, you spent a year taking care of sick relative and didn't earn any or enough income to require that you file. Proof of how you spent your non-income-producing time will short-circuit a detailed IRS examination of your missing tax year.

And about those copies of the 1040s you filed, hang onto those forever, too. You never know when an old tax return might be necessary or at least handy. They also can be a fun time capsule. When I'm feeling nostalgic, I go back and peruse the first joint tax return the hubby and I ever sent the IRS.

4. How do I fill in tax record gaps? 
When you start getting your records in order, either in real paper form or electronically, you might discover you're missing some documentation.

The IRS can help you fill in the gaps. You can order transcripts of your filing history.

You have two options.

Complete Form 4506-T or Form 4506T-EZ to order a tax return transcript. This document shows most line items on your return as it was originally filed, plus information on any accompanying forms and schedules. It will cost you $50 for each tax return transcript you need.

Or request a tax account transcript. This shows your return's basic data, including marital status, type of return filed, adjusted gross income, taxable income, payments and adjustments made on your account. An account transcript is free and it arrives in about 10 days.

You can request either a tax return or tax account transcript online from the IRS.

5. What kind of record keeping system should I use? 
Except in a few cases, which generally are related to business operation, the law doesn't require you to use any special kind of record keeping system. You may choose any method as long as it clearly shows your income and expenses.

If you're happy still using paper documentation and have the space, fill up as many filing cabinets with tax records as you need.

Or you can maintain your records on a flash drive or in the cloud. The IRS has been accepting digital records for 22 years. Back in 1997, the IRS referenced optical disks as the storage option, but as Uncle Sam has gotten more tech savvy, it recognizes today's wide variety of options.

All the IRS requires is that your electronic record storage meet the same standards as apply to hard copy books and records. That means when you replace the paper versions, you must maintain the electronic storage systems for as long as they might be needed under the tax statutes of limitation.  

You also want the records' format to be one that makes it easy for you to produce the material if the IRS asks.

And be sure you back up your electronic tax records and keep a separate copy in a safe place in case something happens to the original.

6. What is the burden of proof during an audit?
Let's be real here. The main reason you hang onto your tax records is in case you're ever audited.

And here's the really disconcerting part of such an encounter. Unlike the U.S. legal system, where you're presumed innocent until proved guilty, it's the opposite when you're facing the federal tax collector.

During an audit, you are considered tax guilty until proven otherwise.

The burden of proving your tax innocence, or at least showing that the information on your Form 1040 is correct, falls squarely on you.

Good thorough and well-organized tax records can help you do that.

7. When I do discard tax records, what's the best way?  
OK, you've sorted through all your documents and have decided which ones you need to keep, at least for now, and which you can toss.

Let me repeat what I said at the start of this post. Don't just toss them into the nearest trash can.

Most tax-related documents are full of personally identifying information. That's exactly what identity thieves want. If someone digs through your garbage and finds your Social Security number or bank account of credit card numbers, they've got what they need to take over your life in the most destructive of ways.

True, literal dumpster diving for financial data isn't that common as it once was. But don't take any chances.

Shredding the documents is still the best route here. It is time-consuming, so consider hanging onto to your tax and personal records until a bulk shredding option arrives. Many office supply stores periodically hold these events, often around the end of tax time, allowing you to bring in your documents to be securely scrapped for free.

If you keep your records digitally, make sure they also are properly destroyed. You can find more on various options for erasing electronic records options in this article from the Records Management Assistance unit of the State and Local Records Management division of the Texas State Library and Archives Commission (there's a mouthful for you!).

The bottom line is that you need to keep some records connected to your taxes. Some you need to keep forever.

Knowing which documents, why they are important and how long you need to keep them can, at the very least, help you establish a manageable record keeping system.

You also might find these items of interest:

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